A slightly edited version of the following column was published as an "In My Opinion" column in the July 25, 1997 Portland Oregonian newspaper.
The Oregon legislature passed a little-known, but important resolution in May. It asks Congress to institute a waiver system to let states opt out of Social Security and develop replacement retirement plans for all workers. I was asked by Portland's Cascade Policy Institute to analyze the advisability and feasibility of opting out, and to think about what kinds of replacement plans would make sense. This brief article summarizes what I found. Is it advisable to opt out of Social Security? The answer clearly is yes. Social Security policy has been so poorly mismanaged that the current and future generations of working Oregonians are at serious risk of being impoverished, rather than protected by Social Security. Some projections suggest that the next generation of workers will be paying 30 percent of their earnings in Social Security taxes alone. It is hard to imagine an alternative retirement scheme that would perform as poorly.
Is it feasible to opt out of Social Security? The answer here, too, clearly is yes. Although the unfunded liabilities of the Social Security system do not simply go away by opting out, much better solutions to handle those liabilities become available. The result is that opting out provides Oregonians with higher retirement incomes, and lower taxes during their working years, than does Social Security.
How would this be accomplished? Any important reform of Social Security must have two key features: First, the system must be "privatized". The key problem with Social Security is that it simply creates a flood of tax revenues, which Congress can redirect as it sees fit, regardless of the financial consequences.
A much better approach would be to create individual, Oregon Personal Retirement Accounts (OPRAs). The payroll taxes levied on individuals would then be channeled into these personal accounts, not into a general fund. In retirement, individuals would draw upon these accounts. When they die, they could leave the balance to their heirs.
The second necessary feature is that the OPRAs be invested in market investments. Social Security tax collections are not invested, in the conventional sense. As a consequence, the only way that the Social Security trust fund can grow is if taxes on wages grow faster over time than the benefit payouts. Our aging demographics wreak havoc with this arithmetic. Investing OPRA balances in the private market will provide positive investment returns over a personšs working lifetime, and add significantly to their personal "trust funds". This is why opting-out of Social Security is a cheaper way to provide for retirement than keeping the Social Security system.
How can one state opt-out? Who pays the benefits of those already retired? The opt-out plan would work as follows. First, OPRAs would be set up for all non-retired individuals in Oregon. Second, workers would stop paying the employee-portion of Social Security taxes immediately, and those funds (at a minimum) would be withheld from paychecks and directed into OPRAs. Third, Oregonšs fair share of the current Social Security Trust Fund, and current and future revenues from the employer portion of Social Security taxes, would be pledged to pay for the promised Social Security benefits of the current and soon-to-be retired individuals. (All younger people would be able to rely entirely on their OPRA investments.)
Once the retired generation dies, and the employer tax is phased out, all workers will rely exclusively on their OPRAs for their retirement income. The Statešs main role is to facilitate the financial arrangements during the transition process and, perhaps, to help define the acceptable range of private investments allowed in OPRAs, to avoid having to rescue individuals who have mismanaged their OPRAs.
What happens to workers who move from Oregon elsewhere or vice versa? There is no reason why the plan could not be portable to other states; that is, Oregonians could keep their OPRAs once they set them up here. Young workers from Oregon and other states likely would be disproportionately attracted here by the OPRA plan, however. This will help reduce the financial burden of paying benefits to the already-retireds in Oregon by increasing the revenue from the temporary employer tax.
Clearly, there are many details and precise calculations to be made to refine such a plan. And, sure, it might be better if Congress privatized Social Security at a national level. But will they do it? Think carefully. Youšre betting your retirement.